This is going to be a very brief market wrap because I want to focus on the charts. Given where sentiment stands since the Monday and Tuesday selloff, stocks have been vulnerable to a rally on any headline news that “we’re close to a deal.” Before the Republicans moved to increase the debt limit temporarily, investors pressed upon numerous support levels for the major indexes. Near support and at oversold conditions, it wasn’t going to take much to rally the markets.
As the title spells out, the market was at support this week and at conditions that have supported the market at previous corrections this summer. Many of the charts you’re about to see were drawn up earlier and presented to our management team at PFS Group for review. So let’s take a look starting off with Papa Dow.
Despite the higher highs and higher lows, the Dow Industrial Average has been consolidating within a range that has been pretty solid. When the market is trading within a range, oscillator indicators like RSI and Stochastic become more relevant. Here it’s clear that the RSI came into support as the market came into support (blue circle). Note how quickly investors are turning away from resistance and support as the channel is well defined and easily visible to the novice technician.
The same can basically be said about the S&P 500. Despite the higher highs and higher lows, it’s pretty clear that stocks are consolidating. RSI support continues to hold in bullish territory above 40 on corrections. What’s unclear is whether this consolidation is a top that’s forming or a continuation formation. Because long-term moving averages are still rising, RSI is holding above 40, and cyclical areas of the market are working, the probability is high this is just a bullish consolidation after a stellar run in the first half of the year.
Mid-cap stocks have performed better than large-cap in this consolidation. A new all-time closing high was registered just a week ago. An ascending triangle looks to be forming with a breakout set right near 1260. RSI came into support near 40 with the index barely breaking the 50-day moving average.
The small-cap index, the Russell 2000, shows a clear uptrend is in place. The trend continues to find support along the trendline where it has reversed course four times in the last six months. Outperformance in small-cap stocks continues as the Russell outperforms the S&P 500 as depicted in the relative strength chart below. The Russell 2000 is currently pressing up against old short-term support near 1064.
It’s pretty clear – based on the above charts – that strength in the market continues to lie with small and mid-cap stocks and away from large-cap stocks. This is typical in the final innings of a bull market in which investors apply a premium to growth, accepting more risk for a chance at greater returns. Despite the recent correction, long-term sell signals have not triggered. The market lies well above its long-term moving averages and the percentage of stocks above the 200-day moving average remains in overbought territory – where it can stay while the market is trending higher. A break below 70% of stocks above the 200-day moving average would be a signal to raise cash.
One thing is clear and that is the market isn’t monolithic. Back in May, more than 93% of the S&P 500 stocks were trading above the 200-day moving average. That number has deteriorated down to 74% on the recent correction and each high in the S&P 500 has had fewer names participating. That’s typically a warning sign, but it’s also something we typically find in an average consolidation, which I believe we’re currently in for large-cap stocks. This indicator too, is showing that we’re at support and could rally, but, as I stated, a break below 70% would be important and noteworthy. My intraday chart showed we got pretty darn close on Tuesday with a low of 66.53% and a close of 69.56% using TradeStation's data. Always remember that the close is the most important data point and any breakout in technical analysis should be given room based on volatility to avoid whipsaws.
The final chart I want to show here is a long-term chart of the Volatility Index (VIX) and the S&P 500. It shows how we continue to press against the upper end of the bullish channel and we continue to find selling pressure there. But corrections remain shallow and volatility remains low. The VIX has yet to raise real genuine red flags like it did in 2011.
